Maintaining liquidity to avoid financial distress.

• Author: Miller, Nanette Lee
• Position: Private companies

In these increasingly challenging economic times, managing your company's liquidity will allow your firm to have the cash on hand it needs--when necessary--to maintain its business viability and avoid financial distress.

Financial distress results from a mismatch between a firm's liquid assets and its current financial obligations. Financial distress can be corrected by either restructuring the assets, restructuring the financing contracts or both.

But it all comes down to proactively managing the business. The following five steps provide a roadmap to manage the business proactively to maintain liquidity, avoid financial distress and comfortably ride out the current economic challenges.

Banking Relationships

Business owners often need to have large amounts of money in different bank accounts. Just prior to press time, the Federal Deposit Insurance Corp. raised--to $250,000, from $100,000 per bank account--insurance on deposits. (Some nonbank money-market insurance limits can go up to $500,000.)

To ensure business accounts stay under these limits, open sweep accounts. These bank accounts automatically transfer amounts that exceed (or fall short of ) a certain level into a higher interest-earning investment option (or pays down an existing credit line) at the close of each business day.

Thus, cash that comes in gets "swept" over to accounts with higher insurance limits; when funds are needed, the process is reversed.

Credit Lines

The key to managing credit lines is to honor covenants. Review all of the firm's covenants every quarter. Banks are no longer automatically waving covenant violations at year end, and may charge between $500 and $20,000 for each violation waived. Some banks may increase interest rates after a covenant is violated.

If a violation does occur, contact the bank as soon as possible and negotiate. Timely communication is vital, especially for increasing a company's credit line. Request the increase well before it's needed, as the approval process takes time, and it will also be less expensive that way.

Accounts Receivable

Keep accounts receivable current and check aging brackets early and often.

Don't wait until an invoice is 90-days overdue. After 45 days, call the account. In fact, have your credit manager review the firm's top 20 accounts every month.

Be proactive. If a company loses its top 20 customers, it's probably not going to be in business. Re-review their credit as if they were a new customer. Are they having...